Scott Burns: Grappling with a ‘Cadillac’ problem

Q: We haven’t seen much information on folks in our position. Here is our situation: My wife is 65, I am 67. We have been retired for five years.

Our yearly income is around $120,000. Together, we have close to $1 million in two 457 accounts (government version of 401(k)), one IRA, and my self-directed portion of a state pension.

Currently we are not taking any money out of those accounts. I know that at age 70½ we will be required to start taking distributions from the accounts.

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Will it be better to wait until we have to start distributions, or start now?

Is there a magic income number that we should avoid due to income tax, or are the taxes just a gradual progression?

A: You’ll need to visit with your tax accountant to get a fix on this because it should be tailored to your situation.

But let me point out the major milestones in your tax future.

First, the 15 percent tax bracket now ends at $72,500 for those filing a joint return.

Every dollar of taxable income over $72,500 is taxed at 25 percent until you reach $146,400.

That’s when the marginal tax rate rises to 28 percent. Make allowance for your deductions and exemptions, and you’ve got some run room before hitting the 28 percent racket.

Meanwhile, you are solidly in the 25 percent tax bracket today.

Required minimum distributions in the future will move you toward the 28 percent tax bracket.

You can create some future financial flexibility by making withdrawals from your qualified accounts up to the edge of the 28 percent tax bracket.

You can do a Roth conversion with the withdrawals until you reach the age for required minimum distributions.

This will help you create a pool of money that will grow tax-deferred.

Later, making a withdrawal won’t cause a “taxable event” because withdrawals from Roth IRAs are tax-free.

The other milestone you want to watch for is the threshold rate for having to pay a surcharge on your Medicare insurance.

This year the basic monthly premium for Medicare Part B for most people is $104.90. The Part B premium will rise to $146.90 for joint filers with taxable incomes of $170,000 ($85,000 for single taxpayers), and there will be a Medicare Part D surcharge of an additional $11.60 a month.

Required minimum distributions may drive your taxable income into this range, so some amount of Roth conversion will serve to reduce the odds that this will happen.

This is what some would call a “Cadillac problem,” a dilemma few people will get to experience.